AN ESSAY ON THE PURE THEORY OF COMMODITY MONEY *

Abstract

CLASSICAL authors like J. S. Mill (1848) and early neoclassical authors like W. S. Jevons (1875, 1884), L. Walras (1874, 1886) or A. Marshall (1871, 1887, 1899, 1923) premised monetary theory on an endogenously-supplied commodity money produced under free competition. This essay views their problem in modern dress, eschewing any attempt at exegesis or criticism of their writings. A clearer appreciation of the conceptual issues certainly assists understanding of nineteenth century monetary thought and phenomena. But it also illumines matters of perennial interest for monetary theory and proposals for monetary reform. Commodity money has been involved in several modern discussions, such as Friedman (1949), Buchanan (1962), Burstein (1963, pp. 97-100), Pesek and Saving (1967), Johnson (1967, 1969), Niehans (1969), Chen (1972), Fischer (1972), Luke (1975), all dealing with fundamental monetary issues, and a general treatment seems desirable. The subsequent analysis attempts to establish a framework within which the logical implications of a simple commodity currency can be explored rather than on normative issues as to the practicability, desirability and optimal design of a commodity-currency or commodity-reserve scheme. For fuller consideration of such issues see particularly Friedman (1949), Graham (1962), Johnson (1967) and Barro (1979). The discussion must also be sharply distinguished from recent treatments of the competitive production of bank money by Klein (1974), Gramm (1975) and others. Section I constructs a simple macroeconomic model, incorporating the production of commodity money into an otherwise-orthodox setting, with given factor supplies and demand conditions. The properties of this model are explored in Section Il, while Section III contrasts the use of commodity money with the use of fiat money. It is shown, contrary to common belief, that commodity-money production might lower economic activity and prices for a given money stock, or make them more sensitive to exogeneous disturbance. Section IV develops a limiting partial-equilibrium approach, which is used to explore the implications of previously omitted nonmonetary uses for the monetary commodity and a distributed-lag response of its production. Brief concluding remarks are in Section V. The more involved proofs are relegated to Appendices.